Spain and Italy Are (Probably) Fine

Just as Brussels is finally enjoying a spell of summer sun, there’s more good news for debt-crisis watchers who stayed behind in the European Union’s headquarters: The Peterson Institute for International Economics, an eminent Washington-based think tank, says the debt loads of Italy and Spain are (most likely) sustainable.

In a new working paper, William R. Cline—a sovereign-debt crisis veteran going back all the way to Latin America’s troubles in the 1980s–calculates different trajectories for the debt loads of the two countries whose financial fate is seen as central to the survival of the euro. The interesting thing about the paper is that it not only examines three typical scenarios (good, baseline, bad) and applies them to five variables (the level of growth, primary surplus, interest rates, bank recapitalizations, and privatization receipts), but also assesses the probability of several of these variables going bad (or good) at the same time. In other words, Mr. Cline calibrated the effect of, say, low privatization receipts on a government’s primary surplus or the interest rates it’s likely to pay on its bonds.

His conclusion–which should delight policymakers in Rome, Madrid, and Brussels alike–is that the most likely outcome by the end of the decade is that “both Spain and Italy remain solvent” and that they won’t need a debt restructuring á la Greece or, even worse, leave the euro zone.